Results-Oriented Outsourcing

Many companies are paying vendors based on bottom-line business outcomes.

June 23, 2014 | Eric Krell

For years, the primary advantage of human resource outsourcing (HRO) has been addition by subtraction: Companies gain by reducing costs, since outsourcing providers often perform payroll, benefits administration and other processes more efficiently than could be done in-house. However, many outsourcing experts suggest that future benefits of HRO will focus more on quality and business value. HR’s role in this equation will be to monitor vendor outcomes relating to service quality, employee satisfaction and other business benefits.

Although the new math of HRO continues to emerge, there are indications that more outsourcing buyers and service providers want to measure, manage and, in some cases, price services based on outcomes rather than on simple process measures such as the number of transactions performed.

“Many traditional HRO arrangements were governed by a ‘take your mess for less’ philosophy,” says Jeff Lupinacci, Moscow-based HR director of Kimberly-Clark International’s Central and Eastern Europe region. “That doesn’t really buy you anything aside from some possible labor cost savings, which do not offer long-term value.”

For example, Christa Degnan Manning, senior vice president of global workforce and talent research at outsourcing analyst firm HfS Research in Cambridge, Mass., points to recruitment process outsourcing (RPO) arrangements where performance is based on the retention rates of new hires after six months rather than on the sheer number of hires. The first measure tells the company if its outsourcer is finding the right candidates, while the second may or may not reflect the value of the service.

“Clients should pay for what providers deliver,” notes Jill Goldstein, managing director of talent and human resources at Accenture. “We think that’s where the business process outsourcing industry is heading, and we’re glad to see outcome-based pricing become a growing trend.”

New Trends And Terminology

U.S.-based business process outsourcing (BPO) provider Datamark last year identified a shift to outcome-based pricing models as one of the top three outsourcing trends of 2013. Forbes magazine has called it “the way of the future,” and research and publishing firm Outsourcing Center also says the model is growing in popularity. Given this cachet, a definition is in order.

“An outcome-based pricing model is one in which pricing is based on the actual business outcomes delivered,” says New York City-based Sarthak Brahma, vice president of pricing assurance at the outsourcing advisory and research firm Everest Group. “The provider determines the people, processes, locations, et cetera, to obtain designated outcomes, while clients simply measure results. The pricing is based on the provider contribution to the actual business outcomes achieved.”

Outcome-based pricing models typically include gainsharing elements through which vendors earn more when agreed-upon outcomes are achieved or “pain sharing” features through which they earn less when they don’t meet their goals.

The use of gainsharing is negligible in current HRO agreements, Brahma says. However, Thomas O’Connor, GPHR, an HR consultant to Bodycote in Andover, Mass., says outcome-based pricing is worth exploring for certain HR functions and processes—including sourcing, recruiting, benefits enrollment, payroll and training—because it might drive greater value for services.

Manage What You Measure

Some forms of HRO already focus on outcomes. For example, RPO service-level agreements routinely include performance measures based on hiring and time-to-fill figures.

Benefits outsourcers, on the other hand, are evaluated—and often paid—according to the number of employees they serve. Training outsourcers may be compensated based on the number of employees they train or courses they deliver. The use of these process measures is driven by the desire for cost predictability and flexibility, says Elizabeth Rennie, London-based HR outsourcing research director at outsourcing analyst firm NelsonHall.

The problem is that such measures do not directly address quality. For example, the number of people trained does not gauge the quality of a course or the depth of learning among participants. Similarly, an RPO provider can be rewarded handsomely for delivering loads of mediocre candidates. “People notoriously complain about the bait-and-switch on both sides of hiring,” Manning says. “A candidate who seemed primed by the recruiter to get a job didn’t end up being a good fit.”

Manning recently analyzed more than 100 HRO agreements related to talent acquisition and found that the majority relied on measures that are relatively simplistic, such as filling a position. A small portion, about 14, included some type of outcome-based pricing element tied to service quality.

Manning expects the use of quality-related outcome-based pricing to increase in the coming years. “The overall maturation of outsourcing, particularly in the HR space, [is] from pure body-shop labor arbitrage type deals to more progressive, results-oriented partnerships.”

Considerations

HR professionals looking at the application of qualitative HRO measures and outcome-based pricing should consider the following points:

Rethink the cost mindset. The modern era of outsourcing began with a strong focus on cost reduction, and that way of thinking is difficult to change. Manning says outsourcing buyers are “addicted” to cost criteria because they are easy to use. Qualitative measures are more difficult to understand and manage. In larger companies, the cost mindset tends to be strongest in procurement functions, where managers who hire vendors are often paid bonuses based on achieving yearly cost-reduction targets. HR can re-examine the degree to which procurement professionals’ compensation structure motivates it to evaluate HRO providers primarily on cost-reduction measures.

Discuss qualitative outcomes with providers. Although gainsharing is rarely used in HRO contracts, broaching the topic can help launch a dialogue between outsourcing buyers and providers that supports a stronger partnership approach beyond a traditional vendor-client relationship. Goldstein emphasizes the need for more dialogue. “To address outcome-based solutions, the current heavy emphasis on written Q&A in the [request for proposal] process should be replaced with collaborative, meaningful dialogue during client workshops,” she says.

Establish trust. “Ask yourself, ‘Do I really trust my partner?’ ” Brahma advises. But remember that trust is a two-way street. Be flexible if a provider occasionally falls short. “Not everything goes smoothly … so don’t fall over yourself to shout, ‘Penalty!’ ” he says. “You might need to arrive at a negotiated outcome once your partner admits to an honest, unforeseen mistake.”

Treat vendors as partners. Accenture research indicates that nearly 85 percent of high-performing outsourcing buyers—those that fully capture business value from their outsourcing relationships—consider their BPO provider to be a strategic partner. “To be successful with outcome-based arrangements, the client must view the provider as an integral part of their operations team, not a third party kept at arm’s length,” Goldstein says.

Explore the idea of a reverse service-level agreement. A reverse service-level agreement holds the buyer to certain standards, essentially codifying the notion that the arrangement requires a two-way relationship. In other words, if the outsourcer needs to deliver X, what does the HR partner need to deliver to enable the delivery of X? HR’s support may take the form of delivering accurate and timely information, for example.

Rennie’s final piece of advice on using qualitative measures may sound counterintuitive at first, but it makes sense. “Don’t just focus on the metrics,” she says. “Sometimes the metrics look positive but the service is not considered to be at a level where it needs to be.”

There’s no magic formula for measuring outcomes. But carefully considering your goals and how you’re assessing progress, and partnering with your provider, is the best way to ensure that your outsourced processes have successful results.

Eric Krell is a business writer based in Austin, Texas, who covers human resource, finance and social marketing issues.